Welcome to the new Becker-Posner Blog, maintained by the University of Chicago Law School.

01/18/2009

Deficit Spending on Infrastructure in a Depression--Posner

Last week we blogged on whether a deficit-spending program--a stimulus package currently estimated to cost $825 billion--is appropriate to deal with the current economic crisis. I will not repeat the points I made. If there is a risk of deflation, and increasing the supply of money is not considered an adequate response, then there is an argument for the stimulus. It is essentially Keynes's argument: if private demand falls short of the supply that the economy is capable of producing, public demand--public expenditures on projects that will put people to work--can fill the gap.
Our focus this week narrows to the infrastructure portion of the program, which is the most conventionally Keynesian. The stimulus package proposed by Democratic Congressmen--the "American Recovery and Reinvestment Act of 2009"--allots $90 billion to infrastructure: $30 billion for highway construction, $31 billion for energy savings in federal and other public facilities, $19 billion for flood control and environmental improvements, and $10 billion for transit and rail. Other parts of the Act, however, allocate additional funds to other construction projects, and from an anti-depression standpoint it is really construction that is the relevant category. There is a lot of unemployment in construction--110,000 construction workers were laid off in December--as part of the continuing fallout from the housing bubble, which increased the demand for new houses; the demand has now collapsed.
One objection to public-works spending as an anti-depression measure is that by the time work on the public projects actually begins, the depression will be over and all that remains will be the bill for the projects, in the form of an increased national debt, since public-works spending that is financed by taxes rather than borrowing has no effect on increasing demand for goods and services. What is given with one hand is taken away with the other. But construction projects, especially those interrupted or postponed because of the economic collapse, can be started up (or resumed) pretty quickly. Moreover, this depression (as I think it is, and not merely a recession) is likely to last at least two more years, and that should be time enough for much of the $90 billion (plus additional money allocated to construction) to be spent.
Another advantage to infrastructure, and construction generally, as an emergency measure is that it may not add significantly to the deficit in the long run. The reason is that the costs can be recouped out of user fees, such as tolls for highways and taxes on airline and railroad tickets. This presupposes that the projects create some real value, unlike the "bridge to nowhere" that was proposed for Alaska, or else the user fees will really just be taxes. To the extent that the money allocated to infrastructure in the American Recovery and Reinvestment Act (which doubtless however will be changed before it is actually enacted and signed by the President) is for interrupted or deferred projects, or merely accelerates projects planned for a later date (accelerated to increase demand now), there will not be incremental waste--that is, waste beyond what is already built into approved projects. With new projects, the risk that costs will exceed benefits is greater, but we must be careful not to view costs and benefits in too narrow terms. Even a worthless project, if it puts people to work, can reduce the economic impact of a depression, as Keynes argued long ago.
Another advantage of construction-oriented public-works spending is that the risk that it will crowd out private investment is small. If labor and other resources used in construction were being fully employed, then the only effect of the government's launching construction projects would be to increase construction prices, because it would be bidding against private employers for a limited stock of labor. But given the high unemployment rate of construction workers, there are plenty of them to hire without an employer's having to lure them away from other employers by the promise of higher pay.
One thing that must give one pause, however, is the question of substitutability across construction projects. Building a house and building a highway are not interchangeable construction activities. Unemployment in the construction industry may be concentrated in residential construction, and residential construction workers may not have the right skills for highway or bridge construction, let alone for flood control. (What use is a plumber or a carpenter in building a highway?) The more specialized the American workforce has become, the less effect Keynesian public-works projects are likely to have on employment. And if they do not reduce unemployment but instead compete with private employers for workers, the only effect may be to increase the national debt and engender inflation (though inflation is one way of combating deflation). This is a general concern rather than anything peculiar to construction. In fact it is a greater concern with some of the other projects proposed in the American Recovery and Reinvestment Act. Projects designed to promote efficient use of energy (in order to limit global warming and dependence on foreign oil--worthy objectives, however) will create inflationary pressure by bidding for scarce resources (such as scientific and engineering skills and complex, novel technologies) against the private sector. That is a compelling reason for concentrating the stimulus in the industries in which unemployment is greatest.

Comments

You can follow this conversation by subscribing to the comment feed for this post.

When one talks about tax policy, one hears about the tension between the desire to transfer resources from individuals to the state without distorting economic decision-making vs. the desire to encourage "beneficial" activities through preferential tax treatment. I have not yet heard much talk about the stimulus package that explicitly recognizes the tension between the desire to move resources from the state to individuals without distorting economic decision-making vs. encouraging "beneficial" activities such as infrastructure investment. It seems that these are two different considerations that are being muddled together where it may make more sense to attack them with two separate sets of policy tools.

People say that tariffs hurt the economy during the Great Depression, and they might have. But this is because we were the world‚Äôs largest EXPORTER back then. When the other countries retaliated, it hurt our export-based economy.

But now we are the world‚Äôs biggest IMPORTER. Imposing tariffs would create jobs for America by protecting our rapidly shrinking manufacturing base. Raise tariffs high enough, and we might end growing a real economy. Something tells me that other countries will still buy our food.

Recommended infrastructure spending:
1. Pass legislation to expedite permitting; and then
2. Build nuclear power plants by the dozen; and
3. Electrify the railroads.

Being down here closer to the street than our ivory tower proffs, my input would be that of greatly underestimating the flexibility of labor and especially so as we are talking about only a few percent of the workforce.

"What can carpenters do on a bridge project?" Build cement forms. Install rebar grids. Guys the were cement finishers on homes? Same for bridges. Electricians? Plumbers? upgrades on public buildings etc.

Have you ever been around the crafts guys? Many are used to riding a roller coaster and have skills in several trades. Many who are journeymen in one craft may be a helper in another; the toughest transition is that of having no job at all.

I thought it something of a cheap shot to use "bridges to nowhere" as an example of a worthless project. The Alaskan Congressman who proposed those foolish projects along with a highway to a fundraiser's land down in Florida, is no longer Chairman of Transportation Cmte and has spent over a million bucks worth of campaign funds on lawyers over the last year, though, amazingly, he did manage to hold on to his seat. And, none of the three PORKERs are going forward. Perhaps the system does work? sort of?

Bill..... Tariffs? I too have been interested in that subject. It's a privilege for foreign companies to have access to the largest market in the world and though I'd not want to overplay our card, I've long thought we've become patsies in the world of trade.

I'm close to the Alaskan fishing business in which the Japanese own most of our buyers/processors and take advantage of their nearly monopolistic market power.

Go around them and set up in Japan as they do here? Ha! it would take a lifetime if ever as a newcomer would be up against a kiretsu (cartel) in a nation where cartels are the norm.

Apparently auto mfg have the same problem, the Japanese would love some of our Jeeps and other models not offered there but not at the very steep tariffs they impose?

Awarding China permanent MFN status was premature and we should be holding trading terms over their heads while they "allow" the yuan to float up to its fair market value, and horrendous working conditions are addressed.

Tariffs would also help our federal deficits some of which come from our protecting many of those same nations. As you say, I doubt we'd get much retaliation on our exports, many of which are unique to us.

~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

I've thought too about electrifying our railroads and using them far more intensively for moving freight (and people in some densely populated areas) but mostly with wind. Locomotives are already electric hybrids with diesel back-up and in the Rockies perhaps the down bound train could back feed energy for the train coming up.

But I conclude this is a long way out as trains are so energy efficient to begin with; perhaps a thousand HP hauling 100 cars on flat terrain compared to a truck running 500HP for a 40 foot van. The big bang would seem to be that of improving the railroad to get more of the tonnage.

Reagan and Cap Weinberger got it right, but obsolescence, wear & tear, and nearly 30 years' worth of military campaigns have eroded U.S. defense preparedness to the bone. Make national defense the centerpiece and the rest that's worth having will follow. Anything less will be another fiscally-ruinous Christmas tree. But, I caution, odds are 90+% that's what we're gonna get.

Reagan and Cap Weinberger got it right, but obsolescence, wear & tear, and nearly 30 years' worth of military campaigns have eroded U.S. defense preparedness to the bone. Make national defense the centerpiece and the rest that's worth having will follow. Anything less will be another fiscally-ruinous Christmas tree. But, I caution, odds are 90+% that's what we're gonna get.

In good times, maybe protectionist union theory supports them, but not in bad times. Tariffs can only raise prices everywhere to no one's advantage.

We'll export even less than we do now (losing more jobs) and imports will cost more. More expensive stuff reduces consumption (a la gasoline). So increased home grown production won't happen either, not with reduced demand.

Sorry, in recessionary times, tariffs are a bad idea all the time.

But Jack has it right about the labor issue. If we'd spend all the "stimulus" money on true infastructure like roads, bridges, rail lines, power grids, etc. Assuming there will be a "shortage" of experienced ironworkers, road construction guys, and other "trades" that usually do that work, that shortfall will be filled from other trades. In the end, construction is construction and if you've worked one kind, you can more readily learn another than some unemployed stock broker can. (god I hope there are as many unemployed stock brokers out there as construction guys).

I'm on record as doubting the efficacy of any stimulus until the liquidity issue is properly addressed, but if you're gonna do it, roads, bridges, power grids, water lines, rail lines are the way to go.

Come to think of it, lets rebuild the levees around New Orleans and up the Mississippi. There's plenty of housing needs rebuilt in Mississippi and Louisiana and in the flooded out areas of Iowa and elsewhere. Let the government write cheap, delayed interest, reconstruction loans to recoup some of that cost.

We've got "stuff" needs doing in this Country that'll benefit pretty much everybody in the long run. I'm sure others would think of better things than I did. If we're gonna throw "stimulus" money out there, let's do some of 'em.

Brian "Cap" and Reagan were leaders back in the Cold War era when many thought "The Russians Are Coming" despite the difficulty they were having feeding themselves at home, much less trying to feed an army abroad. (I think we are getting quite a lesson in how costly it is in a dinky nation less than 1/10th the size of the US)

And, truth is that military build up or buying new hardware is one of the lowest priorities in terms of spurring economy. WERE it an effective spur the amount we've spent in the last five years would have us flying high!

As for resetting and preparing, with the best of intentions it's a difficult time to know what to prepare for, while in the real world we're building a nuke sub no on thinks is a good idea and is a drain on resources today, and, of course, once built will have to be deployed to save face, and continue to be a drain on future revenues. I'm not against military preparedness, but, man! if they can't do it while outspending most of the other nations combined I doubt more money will help much.

But you're right at the end; I think you'll not see us leading with a left hook for quite a while.

Having worked on both public works projects and home construction, I can testify that the skills developed in these areas are highly portable. The same tools and the same materials are often used: the main prerequisite for any of these jobs is having a strong back!

Being an Engineer, I always find it interesting that there is a real lack of knowledge and understanding about the Trades or Crafts. As it stands today, there is a drastic shortage in skilled Craft- persons in this Country, which is one of the reasons wages and salaries are so high in these fields. As an example, a Journeyman moldmaker, can take in excess of one hundred thousand dollars a year with overtime, but to get to this stage requires work and training for about twelve years. This applies across the board to, Laborers, Carpenters, Electricians, Mechanics of all sorts, Millwrights, Pipefitters, Welders, Boilermakers, Machinists, Tool & Die Makers, Steelworkers and the list goes on.... These are highly skilled and educated men and women who deserve their wage scales. Which is one of the reasons for higher Project costs.

Simply because one works in one Standard Industrial Classification (SIC), it does not follow that the Craft Skill is not translatable to another. In fact, Industry recognizes this scarcity, and plans it's Projects in tandem so that this scarce labor resource can be transferred back and forth as required. So that a "Bidding War" is not created and everyone jumps from job to job for a quarter more an hour on a daily basis and disrupts Project completion schedules.

Jack, I attribute it to the "National Inquirer-Glam-gossip" approach that has taken over in American Education. Just ask yourself, "Whatever happened to Shop Class & Math"? Also, there is the disconnect that has occured between Industry and Education. I'd really rather be a Movie Star or a Pop Icon and barring that, a rich Wall Street Financial Advisor or Banker. Or better yet, a Computer Game Designer/Programmer. It's no longer about Agriculture-Industry and Commerce, but a fundamental "paradigm shift" in macroeconomic thinking that has placed the manipulation of assorted financial instruments at the core of economic activity.

Need I mention the Trade Deficit and current Banking Debacle and "leakage/Hemorraging" that I mentioned in a prior comment.

Neil, well your "glam" theory has its attractions but it seems tough to work into a real analysis of why median wages would be so far below those you mention and still have shortages.

Shop? I took both wood and metal shop "back then" and learned a little about lathes, sand casting, metal bending and soldering up a standing seam joint; made me appreciative of the cottage crafts in Korea where they turned spent military brass into ashtrays, candlesticks and the like. Here, I guess it would only be in the arts world that one might use those skills.

Speaking of which, it does seem a paradox that we value the arts but pay lobbyists and other Wall Street thieves so much more. Does it seem the common denominator is that of being close to the cash drawer? Difficult to sell things to workers and home owners at much of a profit and a LOT easier to carve a few basis points off a big deal or send out shockingly large medical bills.

Well, the trade deficit is one I've ranted about for a long time; perhaps even inherited some of the task from my Dad who lived in the era of wearing US made clothing to work and driving union built US cars. But the leakage should help to close the gap in technical crafts and engineering. Well hard to get our arms around it but we KNOW something is not right!

The problem is the concept of "Median Wage". That also includes the "Fry Guy" in fast food and other migrant workers. As for the high payout to the likes of Lobbyists and Wall Streeters, there clearly has been a disconnect in terms of wage scale. It's all part of that "New Economic Paradigm". And are we paying for it now!

Neil agreed, but my point about being median wage limited is that median is median, or if you look at a graph of average wages it's sort of a hockey stick though it does have a lump too at $100k where some of those techies and scarce craftsmen hang out...... but! there is not enough area under those small triangles to create a robust market for what our still productive mfgs can make. ie the rich can only drive so many cars buy so many homes........ can't fly on one wing etc.

Creating tremendous wage-wealth inequality seems to have been fun for most (with many not knowing!) and politically smooth, one guesses that unwinding that part of The Mess will not be easy or fun........ though WS "bankers" have dealt us some fine cards!

Jack, We seem to be skating deperately close to the economic thin ice known as, dare I say it, "Price and Wage Controls". But, this type of action, may be beneficial in the short term by shocking the system and creating stability. Long missing from the Market and Economy.

Neil: Lacking any other means of rationalizing CEO and upper management gleanings, I'd be up for making wages over $250k or so non-deductible to the company. If they think they just MUST have the higher priced "talent" then go ahead and pay full pop for it. What exactly IS the "genius" of an insurance exec or CEO anyway? "Do it about like last year only more vigorously" and "Shall we keep the same DC lobbying firm or look for one with more hooks into the Demo Party now?"

And we should bump the min wage the price of a Starbucks latte immediately. If an employer can find a means of getting $80/day plus some profit for his company out of a human being he shouldn't waste the employee's time.

I'm sure that Obama & Company will facilitate a strengthening of collective bargaining policies that were gutted by Reagan and that should help in the crafts and services.

Ha! do you recall Nixon's W/P controls? Things like carpet models "were no longer made" and "the new model or pattern costs a bit more." It was pretty much a sham.

Jack, The last time we had true Price and Wage Controls, was back in WWII, when Agricultural, Industry and Commerce was essentially Nationalised and we became the "Arsenal of Democracy" (no unemployment and investment problems then). The Price and Wage Controls were removed at the termination of the War. We then became the rebuilders of the Modern World through the Marshall Plan and Lo and Behold, the German and Japaneses Economic Miracles occured. Although, Eisenhower warned us about the Military-Industrial Complex. Since then, we have frittered away our Economic advantages by adhering to a corrupt Economic Ideology known as "Free Trade/Free Markets". And look at what has been wrought.

As for "Lobbying" I've long been an advocate of "bulldozing" K-Street in Washington D.C. and tar&feathering then running it's residents out of town on a rail.

Ha! Say an open season roughly aligned with Congress being in session on striped suits? Could we lash a few known porkers to street lamps as bait? Then a Freedom? or Democracy Park? With space for a mini-Mt Rushmore should we find some heads worthy of being memorialized? Is this off topic??

Jack, I wouldn't make it an across the board assault on the "Striped Suits" enhabiting Congress, but more of an ad-hoc approach. May I suggest a special committee that has authority over both the House, Senate and various Institutions? How about the "Special Committee For the Inquiry into Public and Legislative Corruption"? It will have to be a stand alone Committee with special extra-legal authority. Much like the old Court of Star Chamber.

Amongst the benefits and the cons of infrastructure projects, there is one thing that is not clear: the multiplier effect.

Back in the depression days: 1929 - 1933, the technology is relatively "ancient" compared to the present. Thus, the manpower needed for any projects is numerous. But current technology replaces most of the manpower need with machines. This would diminish the need of workers needed.

We therefore can postulate; the multiplier effect would be substantially lower than the depression era in 1929-1933.

If we changed our tax code so companies were allowed to deduct up to $100,000, annually, per individual, companies could pay a CEO or any employee whatever they wanted, but not on the backs of the taxpayer. The $100,000 deduction would apply to sports teams/organizations, partnerships, LLC's, hedge funds, law firms, PTPs, ad firms, movie studios, everyone. With this change to the tax code, enormous compensation packages would no longer be on the backs of the taxpayers.

By limiting the tax deduction to $100,000 per employee, companies would have to evaluate if multi-million dollar pay packages were prudent, since companies would not be able to reduce their profits and thus tax liability through million dollar salaries. Boards would have to decide whether CEOs were truly worth millions in compensation that could not be deducted.

Under this plan, the government is not telling companies what they can pay a CEO; the government is merely limiting the deduction. Companies would decide if they want to absorb the cost of the CEO compensation or use the money for other purposes.

Limiting the tax deduction to $100,000 (including stock options and more) per individual, allows companies, not the taxpayers, to feel the full impact of the boards/stockholders decisions.

Only the board of directors should decide what is fair compensation, but whatever the board decides should not be on the shoulders of taxpayers. The public has had enough of this burden.

The government has decided to impose a $500,000 ceiling on the senior executives of banks and other financial institutions that accept bailout money. This is a bad idea, though politically inevitable because of public indignation at financiers, thus illustrating.
---------------
Patricia